A few months ago, we faced a tricky situation in our customer service department. It started when a couple of people left, and we found ourselves short-handed. The department supervisor was an excellent, well-liked employee we'll call Carlotta. After looking in vain for a customer service representative, she went to her supervisor, Noelle, and said she had a friend who would be terrific. The problem was, we have a rule against hiring friends and relatives of current employees. Carlotta thought maybe we could make an exception. Noelle said she would talk to other senior managers, although she knew the response would be negative. A couple of weeks later, Carlotta raised the issue again. This time Noelle just said no. Shortly thereafter, someone applied for the job, and Carlotta hired her. The new person did well from the start. Problem solved.

Right about this time, we learned that our longtime billing supervisor was moving to Florida for family reasons. Everyone agreed that Carlotta was the ideal candidate to replace her. As it happened, we had another employee, Adrienne, ready to take Carlotta's position. We told them both about their promotions, and they were thrilled.

A few days later, Noelle and Louis, the company president, came to see me. They had learned that the new customer service rep -- the one who was doing so well -- was the friend Carlotta had asked Noelle about hiring. She had falsified her job application, but some of the other employees had made the connection. It turned out she was living with the brother of Carlotta's boyfriend.

I called Carlotta to my office. Noelle and Louis were there, as was my wife, Elaine, our vice president of human resources. (She and my daughter and the friends and family of several employees had been hired before the no-friends-and-family rule went into effect.) "Carlotta," I said, "you've just been promoted to a position of utmost trust. How could you lie to us?"

She understood immediately and started to cry. "I know I shouldn't have hired her," she said. "I'm sorry. Let me explain."

"There's no need to explain," I said. "I just want to know the facts. Did you ask Noelle for permission to hire this person?" Carlotta said she had. "Did you get permission?" No. "Did you interview and hire her anyway?" Yes. "That's all I need to know," I said. "Here's what's going to happen. Your friend will be terminated immediately. That's the rule. What happens to you will be decided by your supervisors. You can go now."

After she left, I turned to Noelle, Louis, and Elaine. "It's up to you," I said. "You probably know how I feel, but I'll go along with whatever you decide. You discuss it, and we'll talk tomorrow morning."

Let me say a few words here about rules. Every business needs them, but the fewer you have, the better off you'll be. Rules, by their very nature, hamper employees. A few years back, we had an employee who was giving out a ridiculous number of credits to customers. Instead of doing the right thing -- training the employee -- I instituted a rule that only supervisors could issue credits. What happened? When customers called in with complaints about, say, deliveries that had arrived late, our service reps would respond that they weren't authorized to issue credits. The callers, who were already upset about the late deliveries, would get even angrier. We soon realized that by failing to empower our employees we were alienating our customers. We got rid of the rule.

Through such experiences, I eventually developed a rule about rules: Don't make one unless you have considered all of the consequences, will apply it to everyone, and are prepared to stand by it even when it hurts. As a result, we now have only three rules in our company: (1) no drugs; (2) no smoking within 15 feet of a company building; and (3) no hiring of friends or relatives. I've already written about our drug policy. (See "Just Say Yes," November 2004.) We have the smoking policy because we handle lots of paper, and we need to eliminate the possibility of an accidental fire. And then there's the hiring policy.

I'm aware that many companies consider employees the best source of recommendations for new hires. When the job market tightened in the mid-1990s, we, too, turned to our employees for help in finding people. That's when the trouble began. One employee we liked very much had a large extended family and urged several of his relatives to come work for us. We hired five of them. Everything was fine until a surveillance camera caught one of them stealing goods out of boxes. We fired him, whereupon other family members demanded to know why. When we told them, they insisted that it wasn't possible.

"You can look at the film," we said.

"We don't need to look at the film," they said. "Films don't tell the whole story. He would never steal."

Suddenly we had a mini-strike on our hands. Some family members stopped coming to work; those who did refused to do what we asked. We finally had to fire the whole lot, which was a shame. We wound up losing a couple of very good employees because of one bad apple.

Another incident involved a young man we'd hired on the recommendation of his father, another good employee. Unfortunately, the son was habitually late. After warning him three times, we let him go. The father didn't take it well. He cursed and threatened the supervisor who'd fired his boy. We had to call the police.

We had similar problems when we hired the friends of employees. Some worked out, and some didn't -- in which case we often wound up losing both the new employee and the old one. We finally decided we'd had enough and announced the new rule. We made it clear that we weren't going to get rid of any friends and relatives already on the payroll, many of whom were, in fact, valued employees. Those who applied in the future, however, would not be considered.

Understand, the rule was not a matter of convenience. On the contrary, it was easier and cheaper to rely on staff recommendations. We had to do less advertising to find qualified candidates, and we didn't have to interview as many people for each job. But I couldn't accept the number of good employees we were losing by hiring friends and relatives who didn't work out. Would the rule cause us to miss out on some good people? No doubt. But I would rather lose good people who don't yet work for us than take a chance on losing those who do.

Then again, in Carlotta's case, we'd already lost one good employee -- the friend she had hired. Now it was up to the managers to decide whether we would lose Carlotta as well. To me, it was black and white. She had broken a rule and tried to deceive us. End of story. But I've learned that there can be more sides to an issue than I see. Perhaps Noelle, Louis, and Elaine would see something I was missing. In any case, I would accept their verdict.

With no obvious replacement, the managers struggled with the decision: "Are you telling me we won't punish Carlotta because it's inconvenient?"

The three managers struggled with the decision. They are all compassionate people who bend over backward for our employees, and Carlotta was a very popular person. On top of that, we had no obvious replacement for the billing supervisor, and -- with the firing of Carlotta's friend -- we were again short-handed in customer service, as the managers pointed out when we got back together. "Aren't there other people we could move in there temporarily?" I asked. "In a pinch, couldn't you go on the phones, Noelle?"

"I agree," I said. "The reality is, it would be hard, but we could manage. Everybody is watching you. Think about the message you'll be sending to the rest of the staff." I explained that when you have an important business decision to make, you have to put your emotions aside and look at the issue objectively. Maybe you decide to go with your emotions anyway, but at least you're doing it with a clear understanding of the consequences.

We continued to talk, and the three managers agreed that they no longer trusted Carlotta enough to let her serve as billing supervisor. Someone suggested leaving her in customer service. I pointed out that we'd already told Adrienne she was getting Carlotta's job: "We can't punish Adrienne for what someone else did."

"This is pointless," Louis finally said. "We're searching for a way out that will make us feel good, but we all know the right decision. Carlotta has to go." In the end, Noelle and Elaine reluctantly agreed. Carlotta was terminated, and the decision was announced. It was not a popular one. Some people thought Carlotta deserved another chance. Others simply disagreed with the rule. But everybody -- including Carlotta -- understood what had happened and why. She told people that she knew she'd done wrong and she regretted it.

I wish her nothing but the best. I hope she learned something. If so, she will make a great employee at somebody else's company. At my company, meanwhile, we're sticking with our three rules.

Norm Brodsky is a veteran entrepreneur whose six businesses include a three-time Inc. 500 company. His co-author is editor-at-large Bo Burlingham.